Do You Think One Portfolio Can Help You Achieve Multiple Goals?

Jun 17, 2022

Listen to Do You Think One Portfolio Can Help You Achieve Multiple Goals?

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Last week, I met my friend Ritika on her 25th Birthday. During the dinner conversation, her uncle asked about her future goals and if she has started with any savings or investments. Ritika said, "I have started an SIP in mutual funds that are dedicated towards my future goals. I have three primary goals, two of which I want to accomplish within the next 5 years before I reach 30: one is to buy a car and go on a luxury vacation, and the other long-term goal is to buy a house."

"However, I am a bit confused as to how to manage the investment portfolio when you have multiple financial goals. "Should I invest in different portfolios for each goal or maintain one common portfolio for all of them? Mitali, what are your thoughts?" She asked.

To which I replied, "In my opinion, it's always better to have distinct portfolios for different goals. This method is more intuitive and effective from the psychological standpoint of the individual. Your financial goals may be short-term, medium-term, or long-term. When using a unified portfolio approach, there's a chance that one goal will be sacrificed to reach another. This occurs when a person withdraws additional money from their portfolio to cover a shortfall for a certain goal. However, when you know individual goal targets and the separate SIP amounts for each, you will have a clear idea about the progress of each goal separately."

Ritika replied, "This appears to be a well-organized and disciplined approach to investments. But don't you think managing all of these different portfolios will be time-consuming?"

You see, many individuals invest without considering the goal behind their investments. Ideally, investors need to identify their financial goals and align their investments accordingly. When all the investments are cluttered under one portfolio there is a possibility that it may be treated as a large pool of money from which you may withdraw as and when the need arises to fund a particular goal. This casual approach to investments can put your future financial goals in jeopardy. However, having a distinct portfolio for each goal could be the solution.

Invest for your different goals separately and keep the fund allocations distinct. Although it may seem time-consuming, it will help you manage the investments in a purpose-driven way. There isn't much to do once you've established your investments behind each financial goal with separate portfolios; you may review them periodically to make sure they're still in line with the market conditions and your investment plans.

As a rule of thumb, short-term and medium-term goals should not be combined with long-term goals. Any withdrawals done at the time you reach a particular goal should ideally not affect the other goals. Separate portfolios in turn chase each goal distinctly and with a unique asset allocation based on the time horizon and investment needs of each goal. If you want to meet specific financial goals, then each portfolio needs to be driven by a different time frame and risk-return level.

Here is an example of how the concept of separate portfolios for different goals can be practically implemented:

In the above-mentioned case, Ritika has the following financial goals:

  • A luxury vacation in 1-2years (short-term)

  • Buying a car in 3-5 years (medium-term)

  • Buying a house in 10 years (long-term)

Different goals have different time horizons and priorities. As a result, no single strategy can be used to achieve all goals, while each of these goals is very precise. You need to assess the risk you can stomach with each goal, as well as the amount of money required to fulfil these goals.

Do You Think One Portfolio Can Help You Achieve Multiple Goals?
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However, in the case of a unified portfolio, if you see a huge corpus lying in the portfolio, you might be tempted to spend more for a near-term expense (short-term goal) than you ideally should. In the absence of goal-based investing via separate portfolios, one runs the risk of overdrawing funds for the nearest goal, leaving considerably less corpus for goals yet to be achieved.

For instance, if Ritika withdraws more money than she needs for her short-term goal of a luxury vacation, her medium-term and long-term goals may suffer. She may have less money when she wants to buy a car because of her excess withdrawal on the short-term goal. As a result, keeping separate portfolios for each of your goals instils discipline and prevents overdrawing.

Benefits of separate portfolios for multiple goals:

The basic idea behind creating a separate portfolio for each goal is to provide a sense of direction to your investments.

  • Since the investment objective is defined, you know exactly where every rupee is going in order to attain the desired financial goal. When you are aware of how withdrawal or redemption may harm a certain goal, you are less likely to do so.

  • Having distinct portfolios for each of the aforementioned goals aids in determining an appropriate asset allocation for each goal. A short-term goal will have a lower equity allocation and a higher debt allocation. To get the best risk-adjusted returns, a long-term goal should ideally contain a major allocation to equities. A balanced mix of equity and debt may be desirable for medium-term goals.

  • Also, you would know exactly how much money you have accumulated for each goal by comparing it to the target, you can see what percentage of the desired corpus for the goal is complete. A common portfolio for multiple goals, on the other hand, is much more difficult to comprehend in terms of the progress level of each goal.

  • As a goal draws near, having a dedicated portfolio will allow you to shift the money to safer investment avenues to protect the already accumulated wealth from an abrupt market downturn.Top of Form

  • Having separate portfolios allows you to see exactly how much money you need to put toward each goal, ensuring that you aren't under-investing in one while over-investing in another.

  • Having a dedicated portfolio towards each goal also prevents you from reacting adversely to the changes in market conditions. Regardless of the market conditions, you will continue with your regular investments, without falling prey to behavioural biases that often cloud sound decision-making.

You can simply state your S.M.A.R.T financial goals, determine a suitable time frame for achieving them, and calculate the amount of money that has to be invested to achieve a specific desired value for each goal, assuming a decent rate of return on the investment portfolio.

Investors must evaluate the corrosive effect of inflation on their investments. Failure to do so could result in a significant shortage when your goal is due. Due to the sheer power of compounding, the Systematic Investment Plan (SIP) route in mutual funds is suggested to build a corpus steadily over time and generate inflation-beating returns. Various free online tools, like a SIP Calculator, can assist you in determining the exact investment amount required for each goal. Prioritize your financial goals by relevance and accessibility.

 

Which approach is ideal for you?

For most investors, having separate portfolios for multiple goals is preferable. While it sounds too tedious to put into practise, once you get the hang of it, it is not a difficult exercise. It is a one-time effort; nevertheless, you may need to pay some attention at the initial stage to ensure that suitable investments are made for each goal. It helps you stay in control of your finances at each goal level. The common portfolio may appear to be the more cost-effective option, but the separate portfolio plan is actually the more straightforward option.

However, the different-goals-separate-portfolios concept has one drawback. When you have too many goals to invest in at the same time, it is difficult to maintain a separate portfolio for each goal. You can simplify the process by combining portfolios, such as all short-term goals under one portfolio and similarly all long-term and medium-term goals in another. Retain your goal baskets to 3 or 4 portfolios at most, and keep one separate portfolio for your retirement funds kitty. Remember that having a separate portfolio for each of your goals does not necessitate having different mutual fund schemes. Different portfolios can employ the same mutual fund schemes.

On the contrary, a unified portfolio can still make sense, if you are just starting and have a small investment base. When your investment portfolio's size grows, you will have more clarity about your goals and have a more investible surplus. You can then choose to divide the portfolio aligning them to separate goals to keep things more trackable and efficient.

Given that, neither of the approaches is wrong. It is up to the individual to decide which approach suits them best. After all, holding worthy investments that are linked with your financial goals and able to survive various market phases is the foundation of a successful investment portfolio. There are many variables that can affect the efficiency of your portfolio; thus, a periodic review is a must to prevent or reduce the impact of unfavourable market conditions.

Therefore, once you have decided on the approach, you need to invest the appropriate amount on regular basis for each of your goals if you want to achieve them on time. The final step of the puzzle is to figure out the right investments within each asset class. Keep the portfolio compact and do not invest across too many schemes. Follow the asset allocation plan diligently, and invest in worthy mutual fund schemes based on your suitability to earn significant returns.

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Warm Regards,
Mitali Dhoke
Jr. Research Analyst



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